Martin Wolf: “Lord Turner Thinks the Unthinkable”

By John Lounsbury
(Cross posted from econintersec.com)

February 13th, 2013

Paul Kasriel alerted me in an email this morning to check out Martin Wolf’s column today (13 February 2013) in the Financial Times.  Wolf’s title:  “A case to reset basis of monetary policy.”  The widely read associate editor and chief economics commentator for FT is one of the world’s most influential writers on economics.  And he often swims at the edge of the mainstream and sometimes thinks completely outside the box that limits many economic thinkers.  So when you want a breath of fresh air, read Martin Wolf.  He can pull heads out of the sand; there isn’t much fresh air in that medium.

The 13 February column focuses on discussion of the the call by Mark Carney, incoming governor of the Bank of England (BoE), for discussion of flexible inflation targeting as an element if formulating a more effective monetary policy for the central bank.  The call for discussion should be renamed as a call for debate.  The Monetary Policy Commission of the BoE issued an unusual policy statement at the same time Carney was making his proposals before House of Common’s Treasury Select Committee last week.  Here is a summary of what transpired from Chris Giles and Patrick Jenkins 07 February in the Financial Times:

The bank’s monetary policy committee appeared to pre-empt Mr Carney’s proposed communication strategy while he was still testifying to the Treasury select committee, issuing a rare policy statement to accompany a decision not to change policy.

Expectations were dashed, however, that Mr Carney might be even more radical and propose an immediate sharp loosening of monetary policy to achieve “escape velocity” for the economy rapidly as he had hinted in recent appearances.

Without defining the rate of growth he hopes to be able to achieve, he said: “It is entirely possible … in fact probable that the current stance [of the MPC] is compatible with achieving escape velocity”.

He also rowed back from suggesting the BoE should target the level of nominal GDP, saying he was far from convinced of its merits as a monetary policy target and rejected suggestions from Lord Turner, current chairman of the Financial Services Authority, that it should engage in helicopter drops of money – money creation to finance government deficit spending. “I cannot envisage any circumstances where I could support that as a strategy,” he said.

Which brings us to Martin Wolf’s concluding paragraph on 13 February:

Yet I agree with Lord Turner that the even more important question is how to make any policy effective. This, inevitably, raises questions about how monetary policy works in an environment of ultra-low interest rates. Lord Turner thinks the unthinkable: namely, monetary financing of the fiscal deficit. So should policy makers. They have to think afresh. If not now, when?

Just one day earlier Wolf had another column that expanded on Turner’s thinking.  From that column:

“It ain’t what you don’t know that gets you into trouble. It’s what you know for sure that just ain’t so.” This comment of Mark Twain applies with great force to policy on money and banking. Some are sure that the troubled western economies suffer from a surfeit of money. Meanwhile, orthodox policy makers believe that the right way to revive economies is by forcing private spending back up. Almost everybody agrees that monetary financing of governments is lethal. These beliefs are all false.

There we have it:  monetizing debt, long the unthinkable.  Five years ago I would have dismissed that idea as would many in the economics world.  It would have been a thought of scandalous immorality, leading to egregious debasement of money and a sure-fired pathway to a new Weimar Republic experience with hyperinflation.

I have since learned much about monetary systems as they have existed for the past 40 years.

I have learned what monetary sovereignty means and what are the consequences of debt-free monetary expansion really are.

I have learned that the system has operated to this date with all expansion in money funded by private bank debt that falls in two categories:

  • Loans to individuals, businesses and governments without monetary sovereignty which must be repaid or defaulted.  This is all temporary money which will disappear when each loan is closed.
  • Loans to governments sovereign in their own currencies.  This is either temporary money (if repaid at debt maturity) or permanent new money (if continuosly rolled over and never repaid).

These operation have been described by Modern Monetary Theory.  (It would better be called Modern Monetary Operations, in my opinion).

The creation of new money by financing new government debt with private bank credit expansion is the way fiat money has operated until now, a direct carryover from pre-fiat currency days.

This is a political choice, obviously vigorously supported by private banking interests.

If the choice were made, most recently proposed by Adair Turner, to change the political choice to one where at least some of the monetary expansion needed to support economic activity came from the issuance of debt-free money directly by the government, a Machiavellian arrangement would be broken.

“Too Big to Fail” would become “Too Big To Exist”.

Banking would again become a competitive playing field and Matt Taibbi’s giant blood sucking vampire squid would be removed from the face of humanity, replaced by efficient financial institutions no longer tethered by an umbilical cord to the public sector.

Just as the principle of separation of church and state has supported the prospering of a great county since its inception, isn’t it time for the separation of private and public finance to take it to the next level?

Added note: I do not think that the separation of private and public finance should be the equivalent of a divorce.  There are necessary functions in an efficient economy for privately held public debt.  Examples of such functions are risk free savings for individuals and businesses, intermediation of international trade and stabilzing loan portfolio functions for banks.  What is important is to have the balance of power over money for public use in favor of control by the public over public interests.

For more discussion on money and money creation read the following:

 

27 Responses to Martin Wolf: “Lord Turner Thinks the Unthinkable”

  1. Very nicely done job; and calling MMT, Modern Monetary Operations (MMO) is a good suggestion too.

  2. Pingback: Martin Wolf: “Lord Turner Thinks the Unthinkable” | Real Economy & Geopolitics | Scoop.it

  3. I am new to MMT, so I hope you will pardon me if I ask a few simple questions.

    1. Do loans to individuals that are defaulted create permanent new money?
    2. If a private entity (person or bank) buys a new treasury bond for cash, how does that increase the money supply, either permanently or temporarily?
    3. Once permanent new money is created via debt-free monetary expansion, is there any mechanism to (permanently) remove it from the pool of money? Notice that taxes don’t seem to do that, unless the collected money is “shredded”.
    4. What is the mechanism by which MMT would result in a limitation on the size of large banks? For instance, would Goldman, as it currently exists, become unprofitable? Why would it be profitable if it were smaller?

    Thanks!

    • 1. Yes, I believe so.
      2. Short-term, the money supply is decreased by the loss of cash*. Long-term, it depends on the (coupon) interest rate and the difference between the bond’s face value and sale price. If the yield is sufficiently large then the money supply will increase as new high-powered money is issued to pay the yield. *Caveat: many bonds are highly liquid and can easily be traded for cash again, making this point somewhat moot for highly liquid securities.
      3. Yes, and that mechanism IS taxes. Collected tax monies ARE “shredded”. That is, when you “pay” the IRS, they actually merely order your account be decremented. The effective money supply also decreases over time due to deflationary pressures from productivity growth (e.g. technology), profit making (savings) and the trade deficit. Additionally, interest-on-reserves can lead to effective money supply contraction by making lending / investment unprofitable.
      4. Any such mechanism would be likely be political / legal rather than economic according to my understanding. The size of the banks isn’t inherently problematic, it’s the rampant fraud, the ability to blackmail the government and real economy and the ability to play investment markets using everyone’s deposits. Under a monetary-expansion-through-currency-issuance scenario, banks can still profit by loaning directly to consumers and businesses.

      I am also rather new to the study of business cycle macroeconomics, so I welcome any corrections or disagreements.

      • Dale Pierce also answers these questions below.
        The only answers which is really substantively different is 1., and I think he’s correct for loans issued by private concerns. I also fully agree with his answer to 4. My opinion is that it’s not the absolute “size” of a bank in terms of its deposits, etc. that creates problems, but the relative size vs. its markets as well as various policy arrangements (crony capitalism) which allow them to appear profitable.

    • Q: Do loans to individuals that are defaulted create permanent new money?
      A: we should get rid of this distinction between ‘permanent’ and ‘temporary’. Banks create and destroy money; so does the government.

      When individuals default on their obligations, banks have to use their capital; in other words, it destroys the equivalent of the capital.

      When individuals pay back, two things happen: (a) banks destroy the money; (b) the interest paid is added to their capital.

    • Ancaeus, I think the term “pool of money” is a bit vague.

      I also think MMT tends to de-emphasize the difference between money and other forms of financial liabilities. These liabilities possess different degrees of liquidity, and so different degrees of “moneyness”.

    • “1. Do loans to individuals that are defaulted create permanent new money?”

      I don’t think so, because the bank has to write off the amount outstanding on the loan, but it does seize the collateral for the loan. Lets say that it is a house, which goes on to the bank books at the original valuation, which may be above the current market value. This explains the reluctance of banks to forgive any of the debt, since then they would have to write down the value of the house on their books, leaving them in danger of not meeting reserve requirements and then being closed down by bank regulators.

  4. One ain’t have to be big thinker to understand that take money from one valet and put into other ain’t right. That’s exactly what governments in capitalism do. War on drugs costs over one bilion $$$. This is around the same amount as is student loan debt. Swiss folx do not have this problem because they have democracy, they simply do not allow government to epidemic overgrowth. There is no lobbyists in Swiss paying lawmakers to make rules on special order instead of public interest.
    Great economists were Silvio Gesell and Gotfried Feder. All others are piece of crap. Feder has one great idea, beside others: Close country externaly but fully open internally. Translated into language of our tribe: Oposite way of globalization, protect local business by imposing import taxes on goods from cheap labor countries. It worked then and it will work always.
    Actually, Boston tea party was not against taxes but against tax break for one specific company: East India Company. EIC broke british economy by importing goods from India and China. This days crisis is based on the same platform.

    • Correction of your statistics: total student loan debt in the U.S. is close to a TRILLION dollars; the War on Drugs costs about 40 Billion dollars per year; not a billion dollars for either. I am no expert, but IMO “Closing the country” is virtually impossible because the genie is out of the bottle. International trade is now far too co-dependent to impose tariffs — for example, China holds about 10% of U.S. debt and expects unrestricted trade to continue. U.S. companies that are heavily invested in Chinese manufacturing would be kicked out, we could see an immediate devaluation of our currency and a trade war erupting which would be bad for both countries.

  5. A word of caution seems appropriate. It was “Modern Monetary Operations” that finessed the rise to power of Nazi Totalitarianism together with its Death Camps. The application of effective democratic control of an expanded public money creation process is critical.

    • Hitler, of course, came to power via a democratic process. His intentions, however, were far from democratic, and were clearly described before he was elected.

  6. Pingback: Martin Wolf: “Lord Turner Thinks the Unthinkable”

  7. @Ancaeus

    First, welcome aboard. Second, even though I occasionally post here, I am not an economist – so take what I tell you with at least a grain of salt.

    1. Do loans to individuals that are defaulted create permanent new money?

    I’ve pondered this too. My take on this one is that the answer is no. The bank writes off the bad debt, reducing both its assets and the fractional purchasing power of its shareholders. That seems like some kind of balance to me.

    2. If a private entity (person or bank) buys a new treasury bond for cash, how does that increase the money supply, either permanently or temporarily?

    If a person or bank buys a T-bond for cash, it temporarily decreases the money supply – until it is sold or it matures. But T-bonds are such liquid assets, this doesn’t have a lot of significance.

    3. Once permanent new money is created via debt-free monetary expansion, is there any mechanism to (permanently) remove it from the pool of money? Notice that taxes don’t seem to do that, unless the collected money is “shredded”.

    All taxes that are collected are, in effect, shredded. If someone pays them with cash, it is physically shredded. If electronically or by check, the result is just numbers changing in computer databases. The numbers that really matter are the ones that represent the purchasing power of the taxpayer – the purpose of taxation being to reduce it, and thus regulate aggregate demand. And, as far as I know, everything is temporary. Any purely monetary or financial thing that can be done can be undone. (I know this isn’t much of an explanation, but the full details would encompass every kind of financial transaction there is.)

    4. What is the mechanism by which MMT would result in a limitation on the size of large banks? For instance, would Goldman, as it currently exists, become unprofitable? Why would it be profitable if it were smaller?

    If public policy were informed by MMT principles, the feds would just revoke the special rule-changes which prolong the fiction that Goldman et. al. are still solvent, take them into receivership and break them up into solvent, much-smaller going concerns in the various real-world markets they operate in. The chips from their fictitious, “casino-capitalist” games would be allowed to fall where they fell. If a hedge-fund, for example, bought a credit-default swap from AIG, and AIG didn’t put sufficient loss-reserves aside, the hedge fund would just lose its money if AIG went under. If enough of this occurred, the hedge fund might go under too. Big Whoop. What are any of them doing for the rest of us?

    Cheers.

    P.S. If you haven’t yet, treat yourself to W. Mosler’s book “The Seven Deadly Innocent Frauds” –

    http://moslereconomics.com/2009/12/10/7-deadly-innocent-frauds/

    You can even get it for free if you’re strapped. It’s the best introduction to MMT you will find. -dp

    • Whether the cash is physically shredded or not doesn’t seem to make much difference to me. If you pay your taxes with a check, there will be a transfer of bank reserves from a commercial bank’s reserve account to a Treasury account. If you pay with cash, the cash might be shredded, but the Fed will credit the Treasury with the amount shredded – the cash is a Fed liability as are the balances in treasury accounts at the Fed, so the Fed is just exchanging one form of liability for another.

      If the tax payment is deposited in a TTL account, that means there is a transfer from a Treasury account at the Fed to a bank reserve account. But at the same time as the bank acquires these new reserve account assets, the bank also acquires a new liability to the Treasury. So net private sector monetary assets have not changed.

  8. The usual rub is evident.
    Somewhere a distinction needs to be made BETWEEN debt-free funding of government deficits BY the government, and Modern Monetary Theory.
    MMT purports that TODAY the government creates the money – which it doesn’t.
    If you follow the MMT logic THAT government creates money when it spends to its root in nuanced reserve accounting you may become confused between the the accounting tenets of double-entry bookkeeping by the payments masters at the Fed, and the science of money and monetary systems.
    Don’t be confused.
    Just as the CB’s policy initiatives of QE are incapable of funding needed government expenses because they involve asset swaps between the CB and its depository institution, the actions of the government in spending cannot – be either accounting or legal norms – create the money that is needed to capture a so-called monetization of the deficit.
    In order for that to happen, the government must first be empowered to actually create new money when it spends, and it must attain that right with very specific limits on both the amounts to be created and the use to which that money can be effected.
    Certainly these new perspectives from both central bankers and top-echelon financial writers are to be applauded. But it is one thing to recognize that this debt-based money system cannot get us from here to there – being achievable socio-economic prosperity – and to recognize what actually NEEDs to be done in order to get there.
    MMT gets you half-way there by its recognition of the limitless power of a sovereign fiat money system.
    Putting that power to effective use has very fortunately been spelled out in the Kucinich legislation.
    http://www.govtrack.us/congress/bills/112/hr2990/text
    Have a read and lets move toward implementation.
    For the Money System Common.

    • The Fed is part of the government.

      • “The Fed is part of the government”

        But it is a very small part. The US President gets to appoint its chairman, but thats about it.

        If the US Treasury owned the Federal Reserve Bank, it would have no need to go into debt in order to create money to fund government expenditure. It is in fact owned by a consortium of private banks.

    • The government creates money when it spends. It’s just limited by rules and conventions to only creating as much as it “destroys” through taxes and bond sales.

      • The US government does not create money when it spends, it creates debt, by selling US Treasury bonds which bear interest. It could create money debt free, but it does not do so.

  9. There are necessary functions in an efficient economy for privately held public debt. Examples of such functions are risk free savings for individuals and businesses, …

    Wrong. Risk-free saving can only properly be provided by the monetary sovereign itself or by a strict 100% reserve requirement on the banks which defeats the purpose of banking.

    We need to separate risk-free fiat storage and transaction services, which should be provided by the monetary sovereign, from credit creation, an inherently risky business that should not be subsidized by government.

  10. This article has problems, using pernicious phrases like “permanent money” and “debt-free money” which are not MMT concepts, not real concepts, and/or contradictions in terms, like the second. Cf. Pedro Alvarez’s comment above.

    The value, the demand for money or any other form of debt is created by its IMpermanence, not permanence. The fact that money is redeemable / destroyable / shreddable /cancellable by loan repayment and tax payments and purchases creates demand for it. “Permanent money” (like a permanent promise – money is a promise, a social relationship) would not be money (or a promise) at all. It is just yet one more way of sneaking the commodity theory of money in the back door, of making things more complicated than they really are.

    The creation of new money by financing new government debt with private bank credit expansion is the way fiat money has operated until now, a direct carryover from pre-fiat currency days. NO! New government money creation, new government debt creation is “financed” by itself, not by private bank credit expansion, which has little to do with it. Uncle Sam runs things, not the banks. All Uncle Sam needs to do is wake up again to this fact.

    Are Uncle Sam’s dollars trading at par with bank dollars or not? Or do bank dollars sometime fall below Uncle Sam’s par? – as one money-market-fund’s dollars did at the height of the GFC. Uncle Sam’s dollar is so strong that most people would have trouble even understanding the question! And as long as this is the status quo, Uncle Sam is unquestionably the boss.

    • “Permanent money” (like a permanent promise – money is a promise, a social relationship) would not be money (or a promise) at all. Calcagus

      So you’re arguing for balanced budgets by the monetary sovereign, at least on average? Otherwise, if the monetary sovereign sometimes run budget deficits and never runs a budget surplus then permanent fiat equal to the sum of those budget deficits would accumulate and by your logic would not be money. Yet clearly it still would be money.

      • So you’re arguing for balanced budgets by the monetary sovereign, at least on average?

        No, I’m not. Permanent growth of the aggregate of money does not imply anything about the permanence about the money that is aggregated. Suppose you have an (indefinitely large) tub filling with water and a drain, more coming in than going out. Then it is easy to set things up so that any particular molecule of water will spend only a finite time in the tub before going down the drain (with probability one). But all the while, the total amount of water continually increases, say by 1% per year. The value of money is based on the fact that there is an ultimate demand for it, no infinite regress, the fact that it is impermanent, not permanent.

        It’s like the Ship of Theseus. If each piece were slowly replaced by a slightly bigger one, or one plank replaced by two, it could get ever bigger, even though each individual piece decays and is replaced after a finite span of time. (Maybe that is close to Plutarch’s original, even.)

  11. Possibly Turner got his idea about monetising the fiscal deficit by having a peek at blog posts written by MMTers and by taking a peek at this work written two years ago by a group advocating full reserve banking:

    http://www.positivemoney.org.uk/wp-content/uploads/2010/11/NEF-Southampton-Positive-Money-ICB-Submission.pdf

    Monetising the deficit actually just amounts to merging fiscal and monetary policy, and I wrote a blog post a year ago advocating a merge. See:

    http://ralphanomics.blogspot.co.uk/2012/03/sixteen-reasons-why-mmt-is-right-on.html

    As to whether monetising the deficit (aka helicopter drops) equals merging monetary and fiscal, Mervy King says so. And you can’t argue with HIM. He even looks like God. See para starting “There has been some talk…” here:

    http://www.bankofengland.co.uk/publications/Documents/speeches/2012/speech613.pdf

  12. If you want a cure for the economy go back to the cause. Government intervention and creating artificial markets without consideration to the realities of free markets. They could have paid off every mortgage, every school loan and bailed the banks simultaneously. The proverbial “TWO BIRDS WITH ONE STONE” Trickle down has not worked at all.
    http://confoundedinterest.files.wordpress.com/2012/01/nhsdream1.pdf

  13. While reading the first few paragraphs of this article, I was getting really excited that perhaps Mark Carney was going to follow a new path and maybe inject some debt-free money into the economy where it is needed–with the people who are suffering from austerity. I was disappointed, but then encouraged to think that there are others who are thinking along more creative lines (Turner). There is hope yet!

    Apparently, years ago Steve Keen visited the Bank of Canada and found some people there who were receptive to his ideas. I’m sure Mark Carney was not one of them. Mark Carney has assured us that the Bank of Canada “issues” money but that the commercial banks “create money.” Nice distinction that can be repaired by legislation which one can only hope will happen in the near future.